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S. Vaidya Nathan

Mr Kumar Mangalam Birla with his mother Rajashree Birla... A smooth entry into the portals of the L&T's cement business.

INVESTMENTS can be contemplated in the Grasim Industries' stock, as there is scope of gains linked to its now-certain hold over Larsen & Toubro's cement business (referred to as CemCo). Grasim's impressive record in managing growth through finely-priced debt and internal accruals and without recourse to equity is a key factor as it absorbs CemCo.

The cushion provided by its virtual monopoly in the viscose staple fibre (VSF) will be an added strength.

Business Line has for close to two years indicated the possibility of unlocking value through a restructuring of the businesses of Indian Rayon and Grasim. With CemCo now in the bag, this exercise may be closer on hand. The acquisition is likely to create value for the following reasons:

Buyer's haven: L&T, with a 17-million tonne contemporary capacity, good geographical spread and brand equity, would, under normal circumstances, have held all the aces in a sale situation. But the absence of a clear promoter group and the support of the institutional shareholders to Grasim have led to a complete shift in negotiating power.

Grasim has virtually called the shots and walked away with the prize catch. No other cement industry takeover has witnessed a buyer placed in such an advantageous position. This is bound to give Grasim an edge in the industry sweepstakes.

Price, a steal: A price tag of Rs 2,190 crore for undisputed control over CemCo is extremely attractive, coming as it does with immense strategic advantages. On capacity, it would move to about 30 million tonnes. This catapults Grasim into a different league in terms of scale of operations.

It also places the company beyond the pale of MNC competition for at least three years. Only if there is a hostile bid for ACC, can MNCs be placed on a strong footing to catch up with Grasim.

Smooth sailing: Grasim's proposed open offer for CemCo may go through without glitches. The price has been revised up by 31 per cent to Rs 171.3 per share. Still, Grasim would still be spending 10 per cent less now (on total outlay) than what it would have forked out if its earlier open offer had found widespread acceptance.

The passive manner in which financial institutions have gone along with Grasim suggests that they may warm up to the open offer.

Fears of the CemCo stock been allowed to languish and swap ratio concerns in a merger situation may lead to better response from non-institutional shareholders.

Smart sale helps: Grasim's decision to sell its stake in the L&T non-cement business now may be a compromise to have its way in the demerger of the cement business. But this too is favourable for Grasim. This sale provides it with cash to bankroll 28 per cent of acquisition costs.

Merger in store: Sooner than later, a merger of the cement business of Grasim and CemCo is inevitable. The capacities of both have no compatibility problems that stare Gujarat Ambuja in the face vis-à-vis ACC goes. Efficiency and profitability levels are not significantly different to render a merger unattractive. A 30-million-tonne play in cement is bound to attract investors and improve valuation levels for the stock.

Set to get cheaper: What the merger will also do is to further reduce the cost of acquisition for Grasim.

When Grasim picked up sister concern Indian Rayon's cement units, the exchange ratio did not favour the latter's shareholders. A similar trend can be expected when the merger of Grasim's cement business and CemCo takes place. Grasim can also wait out to let the CemCo stock languish due to pricing and profitability pressures. This would also help tilt the merger terms more in Grasim's favour. Geographical footprint: The combined cement entity would provide Grasim a key presence in all major markets and strength in price setting and/or grabbing market share. The geographical spread did not help ACC in the past even in goods years for the industry due to its low operating efficiencies. But the story in Grasim is bound to be different due to the contemporary nature of the capacities. Almost the entire capacity on hand would be a legacy from 1990s unlike ACC's which go far back in time.

Minimal concern areas: Bunching of capacities may be a problem in Madhya Pradesh.

These factors may also help it ride out any delay beyond expected two years in the emergence of better producing power. One other factor that would help in this regard is better discipline in capacity creation due to consolidation.

Further growth beckons: Grasim's financial strength and the effective low cost of this acquisition will ensure that it is well placed a year (or two at the most) down the line to pursue further growth. These could be though acquisitions and/or green-field units. Such growth could farther the distance with competition.

Valuation gains: Grasim may also want the best possible valuation for the combined cement entity. To ensure this, it may vest the sponge iron and textile businesses in separate companies, pending further restructuring or sell-off.

These businesses have lifted profits by about Rs 80 crore in 2002-03. But they can drag earnings by as much, if not more, when the business cycle turns adverse. A cement plus VSF play without these glitches may be the shape of things to come. If you are a Grasim shareholder, there is much to cheer. Clearly, the management has pulled off a coup of sorts that has positives written all over.

As the biggest play in cement, the stock is likely to attract more institutional investors over the next few years. This will also create room for an improvement in the valuation levels.

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